Leasing vs Buying

In the world of car buying, it seems that no one really looks at the price of the car anymore but rather the monthly payments associated with it. That is strictly ignorant and gives a great advantage to the dealer who will use this monthly payment as a means to close the deal.

What does the monthly payment really mean? Is the special lease for $349 a month possible? And what’s the catch?

These are all questions I answer in this article and give you all the tools you need to make an educated decision on buying or leasing a car.

In order to understand the reality behind Leasing and Buying, there are a few terms and concepts we must understand.

True Market Value (TMV) is the realistic cost of a car based on its year, mileage options and importantly the market itself. The dealer will do his best to get as much money above this number as he physically can. This value is often referred to in the car business as the wholesale value, cash value or black book value and is quite important but often kept secret from buyers. It isn’t a scam but simply business. You as a person would not buy for $17,000 if you knew that the value was less than $15,000. This is why it is a secret and to the dealer’s best interest if you never find it.

True Cost (TC) is the final cost of a car. This includes all taxes, tags and fees, as well as the car itself, any finance charges and any monies you had to put into the car right from the start. This would be the full cost of this car.

Residual Value: The value of a car after a certain amount of time has elapsed. Usually described as a percentage of a car’s new cost. Residuals are calculated usually on a lease. EX: you could say a car will have a residual value of 56% after 3 years, meaning that 36 months from now the car will be worth 56% of its original MSRP today. The higher the residual, the better the value of the car will be. American cars usually have very low residuals, Germans very high and Japanese cars right in between. The lower the residual, the higher the cost of the monthly payments on a lease.

How does a lease really work and why are the payments so low?

A lease is simply you borrowing a car for 1, 2, 3 or 4 years and then turning it in after your term is up in exchange for nothing. In other words you rent the car for the long term, return it in good condition and get nothing in return. Does that make any sense?

Here is how a lease is calculated:

Keep in mind that the interest rate is 0% in both cases to simplify the equation in this case

The cost of the car – the residual value – the down payment / into your term = your monthly payment.

$26,000 – $ 14500 (56%) – $2000 / 36 (3 yrs) = $263.88 per month

Here is how a typical financed/purchased car is calculated?

$26,000 – $0 (n/a) – $2000 / 60 (5yrs) = $400.00 per month

The conventional car purchase is calculated over 5 years as most people finance a car over 5-6 years when purchasing and usually lease a car for 3 years, therefore giving us realistic examples that we can relate to when purchasing or leasing.

In other words, the lease makes you pay for the amount of the car used only, while the purchase takes the True Cost of the car and divides it in your term and makes you own the car in full. This is usually why the lease payments are smaller, as the purchased cars do not have residual value.

Why would you want a $400 payment vs a $263.88 payment?

Well because unlike a lease, you get to keep your car free and clear with no payments after the 5 years but with the lease you simply give it back and are left with nothing. The other positive is that after 5 years you have what you call equity in your car meaning you can sell it and make money back on it to put as a down payment elsewhere. This may or may not work in your favor depending on the car, miles driven per year and condition.

Leasing a car allows you to drive a nice car for the price of its depreciation during the time of your ownership, and then returning it to the dealer.

Some important items to keep in mind when negotiating a lease:

Focus on payment and down payment (negotiate your payment with as little down as possible)

Do not buy accessories, warranties and other add-ons the dealer wants you to pay for.

Pay a bit more and get the better car (ask how much more the next model up would be)

Look for special lease deals like 0 due at signing, 0 down and $199 a month or so, dealers do this to move more cars and create volume sales. Take advantage of it when possible and appropriate.

Do not lease high line cars or specialty cars (they simply do not have great values on those) as the cost is very close to the buy price and therefore doesn’t hold appeal to lease when you can own.

Why lease?

You want a new car every 3 years or so

You want a smaller payment for a nicer car

You want a warranty and peace of mind always

You don’t have to worry about depreciation

Why Buy?

Freedom to do as you wish with your car

Ownership after 5-6 years, payment free

Lower insurance premiums

You can get out anytime you want by selling the car

According to all this, leasing does make sense but there are certain downfalls to keep in mind when leasing. You can’t get out of your lease before its up, or you will have to pay the remainder of all payments owed on car, which can add up should an emergency happen and you be forced to sell car. Mileage is also restricted to whatever you choose to pay for, most cars are 10, 12 or 15K miles per year, depending on the term negotiated in your contract at time of signing. The other downfall is the condition of the car must be mint at time of return or you will incur a fee for repairs.

So should you lease or should you buy?

I personally would never buy a new car, as it’s the worst investment one can make. One that depreciates 50% in 2-3 years is simply not smart. Instead the right used car would be my weapon of choice as that is simply free (will be discussing this soon). But in the case of leasing vs buying, I can only say that as long as you understand the time frame commitment, and cannot settle for a used car, then the lease is the perfect option for you. Buying a new car is simply financially reckless and therefore as long as you don’t need to put a large sum down then leasing does make sense on a new car and should be heavily considered, unless of course you are like us here at Secret Entourage and prefer to drive exotic cars free all day.